IPOs, Initial Public Offerings: pre & post IPO

U.S. Silica Holdings (SLCA)

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Based in Frederick, Maryland, U.S. Silica Holdings (proposed SLCA) scheduled a $201 million IPO with a market capitalization of $901 million at a price range mid-point of $17 for Wednesday, February 1, 2012.

SUMMARY
SLCA provides for general commercial markets and for the oil/gas fracking market.  The growth in the business has come from the fracking market, on which we have turned negative

RECOMMENDATION
We believe SLCA is priced too high at 33 times earnings and 5.9 times book value when much of the growth expectations rest on an expanding fracking market, see below.

SCORECARD

Mgt

Market

Market Do-

Proprie-

Total

1-5, 5 is high

Growth

mination

tary

rating

20 is perfect

2

1.5

2

1

6.5

Valuation Ratios

IPO Mrkt

Price /

Price /

Price /

Price /

% offered

Annualizing Sept 9 mos

Cap (mm)

Sales

Earnings

BookValue

TangibleBV

in IPO

U.S. Silica Holdings (SLCA)

$901

3.2

33

5.9

15.2

22%

See ‘FINANCIALS’ below

Pre-IPO grade-score summary
. Many IPOs in today’s environment are graded C+ and scored 7
. If the pre-IPO grade is below C+ or the score is below 7,
then our analysts may have some concerns about the company’s
outlook and/or its market segment
. If the pre-ipo grade is above C+ or the score is above 7,
then our analysts believe the company’s overall business outlook
is more favorable
Glossary of IPO Analysis terms

NEGATIVE ON FRACKING MARKET
News on January 23 and 24th

(1) “Natural gas, the worst-performing commodity this year, rebounded from a 10-year low in New York after Chesapeake Energy Corp., the second-largest U.S. producer, said it will cut production and reduce spending.”  Natural Gas, Bloomberg, January 23

(2) Chesapeake Energy (CHK) Pulls Back Amid Natural-Gas Glut
“So much gas-rich shale has been found, however, that federal and private forecasters predict an oversupply will last for years.

“The glut partly stems from the U.S. energy industry’s success with new techniques to recover oil and gas—notably horizontal drilling and hydraulic fracturing, or fracking, of shale formations.

“The company said Monday it will cut spending on gas drilling by more than $2 billion this year and divert that money to chase more profitable oil, which is trading near $100 a barrel.”

And “EQT Corp., a natural-gas producer based in Pittsburgh, said Monday it would suspend its shale-gas drilling in Kentucky indefinitely in response to low prices; its stock jumped 8.3%, or $3.83, to $50.13.”  Wall Street Journal, January 23

(3) Economic Tailwind: No Sign Of The Natural Gas Glut Ending Anytime Soon
“The Energy Information Administration notes that the working gas in storage is near a record high, and thanks to a warm winter it’s not falling as fast as it usually does, meaning prices are likely to remain low.”  SeekingAlpha January 24

BUSINESS
SLCA is the second largest domestic producer of commercial silica, a specialized mineral that is a critical input into a variety of attractive end markets.

During SLCA’s 111-year history, SLCA developed core competencies in mining, processing, logistics and materials science that enable SLCA to produce and cost-effectively deliver over 200 products to customers across these end markets.

In SLCA’s largest end market, oil and gas proppants, its “frac sand” is used to stimulate and maintain the flow of hydrocarbons in horizontally drilled oil and natural gas wells.

This segment of the business is experiencing rapid growth due to recent technological advances in the hydraulic fracturing process, which have made the extraction of large volumes of oil and natural gas from U.S. shale formations economically feasible.

SLCA’s commercial silica is also used as an economically irreplaceable raw material in a wide range of industrial applications, including glassmaking and chemical manufacturing. Additionally, in recent years a number of attractive new end markets have developed for SLCA’s high-margin, performance silica products, including solar panels, specialty coatings, wind turbines, polymer additives and geothermal energy systems.

SLCA operates 13 facilities across the United States and control 283 million tons of reserves, including approximately 138 million tons of reserves that can be processed to meet American Petroleum Institute (“API”) frac sand size specifications.

SLCA produces a wide range of frac sand sizes and are one of the few commercial silica producers capable of rail delivery of large quantities of API grade frac sand to each of the major U.S. shale basins.

SLCA believes that due to a combination of these favorable attributes and robust drilling activity in the oil and natural gas industry, it has become a preferred commercial silica supplier to customers in the oil and gas proppants end market and, consequently, are experiencing high demand for frac sand.

OVER EXPANSION?
To meet this demand, SLCA is investing significant resources to increase proppant production, including expanding frac sand capabilities by approximately 1.2 million tons, or approximately 75% above tons sold in 2010, and constructing a new facility to produce resin-coated sand, which significantly expands SLCA’s addressable proppant market.

TWO SEGMENTS
SLCA’s operations are organized into two segments based on end markets served: (1) Oil & Gas Proppants and (2) Industrial & Specialty Products.

The segments are complementary because SLCA’s ability to sell to a wide range of customers across end markets allows SLCA to maximize recovery rates in mining operations, optimize asset utilization and reduce the cyclicality of earnings.

WE DON”T BELIEVE SLCA’S DEMAND FORECASTS
See ‘negative on fracking market’ above
According to a Freedonia report dated April 2011, demand for all proppants is projected to increase approximately 16% per year to $5.1 billion in 2015, and, more specifically, demand for frac sand and resin-coated sand in the United States and Canada is projected to increase 15% per year to $1.9 billion in 2015.

SUPPLY
Supplies of commercial silica have failed to keep pace with demand for approximately the past 18 months. During the economic downturn of 2008 and 2009, demand for commercial silica from customers in various industrial and specialty products end markets decreased.

As a result, there was no significant expansion of domestic commercial silica supply. This, combined with the continued growth in demand for frac sand and the rebound in industrial and specialty products end markets in 2010, has created a supply-demand disparity.

SLCA believes that if the present level of demand growth continues for the foreseeable future, a significant expansion in the supply of commercial silica will be needed to balance the market. SLCA and other large producers, have implemented or announced some supply expansions, and other smaller producers have made similar announcements. However, there are several key constraints to increasing production on an industry-wide basis, including:

PRICING
Historically, commercial silica has been characterized by regional markets created by the high weight-to-value ratio of silica. The increased demand for commercial silica from customers in both the oil and gas proppants end market and industrial and specialty products end markets has resulted in favorable pricing trends in both of our operating segments.

If demand for frac sand continues to rise, and if the general economic recovery continues to result in increased demand from SLCA customers in industrial and specialty products end markets, SLCA expects the prices that its products demand will continue to increase.  Between 2000 and 2009, commercial silica prices increased at an average annual rate of 9.0%.

FINANCIALS
Sales increased $26.5 million, or 14%, to $212.0 million for the nine months ended September 30, 2011 compared to $185.5 million for the nine months ended September 30, 2010. Of this increase, $18.1 million, or 68%, was attributable to growth in the Oil & Gas Proppants segment.

Growth in the Industrial & Specialty Products segment accounted for the remaining growth, or an $8.4 million increase. Overall, average realized price increased 10% and volumes increased 4% from the comparable prior period, respectively.

Segment Contribution Margin
Oil & Gas Proppants contribution margin increased $11.9 million, or 37%, to $43.8 million for the nine months ended September 30, 2011 compared to $31.9 million for the nine months ended September 30, 2010 due to the factors noted above.

Industrial & Specialty Products contribution margin increased $1.5 million, or 4%, to $38.5 million for the nine months ended September 30, 2011 compared to $37.0 million for the nine months ended September 30, 2010 due to the factors noted above.

STRENGTHS
SLCA’s 13 geographically dispersed facilities control 283 million tons of reserves, including API size frac sand and large quantities of silica with distinct characteristics, giving SLCA the ability to sell over 200 products to over 1,400 customers.

SLCA’s large-scale production capabilities and long reserve life make us a preferred commercial silica supplier to customers. A consistent, reliable supply of large quantities of silica gives SLCA customers the security to customize their production processes around SLCA’s commercial silica.

The strategic location of SLCA’s facilities and its logistics capabilities enable SLCA to enjoy high customer retention and a larger addressable market.

CAPACITY EXPANSION
SLCA is currently executing several initiatives to increase frac sand production capacity and augment its proppant product portfolio. At our Ottawa, Illinois facility, SLCA recently implemented operating improvements and installed a new dryer with six mineral separators to increase our annual frac sand production capacity by 900,000 tons. At SLCA’s Rockwood, Michigan facility, the company recently added 250,000 tons of annual frac sand production capacity by installing an entirely new processing circuit to run on a continuous basis alongside our existing state-of-the-art low-iron silica circuit. These two projects were completed during the fourth quarter of 2011. SLCA is also in the initial stages of building a new facility to produce resin-coated sand that will be designed to coat up to 400 million pounds annually, which is scheduled for completion and start-up in 2013.

EMPLOYEES  
As of September 30, 2011, SLCA employed a workforce of 685

COMPETITION
SLCA competes with large, national producers such as Unimin Corporation, Fairmount Minerals, Ltd., Badger Mining Corporation and Carmeuse Industrial Sands.

LOCALIZED MARKET
As transportation costs are a significant portion of the total cost to customers of commercial silica—in many instances transportation costs can represent more than 50% of delivered cost—the commercial silica market is typically local, and competition from beyond the local area is limited.

Notable exceptions to this are the frac sand and fillers and extenders markets, where certain product characteristics are not available in all deposits and not all plants have the requisite processing capabilities, necessitating that some products be shipped for extended distances.

CUSTOMERS & AGREEMENTS
A large portion of our sales is generated by the  top ten customers.

During 2010, SLCA’s top ten customers represented 45% of sales from continuing operations, with no single customer accounting for more than 9%. SLCA has long-term, competitively-bid fixed price supply agreements with three of these customers in the oil and gas proppants end market, including the top customer, that have initial terms expiring between 2014 and 2016.

SLCA does not have long-term contracts in place with the remaining top seven customers from 2010. In the fourth quarter of 2011, SLCA signed six additional shorter term supply agreements with other customers in the oil and gas proppants end market. The terms of these new agreements range from 12 to 36 months and the agreements are generally fixed price, take-or-pay supply agreements. These customers may not continue to purchase the same levels of commercial silica products in the future due to a variety of reasons.

EQUITY SPONSOR
Golden Gate Private Equity, Inc. is a San Francisco-based private equity investment firm with approximately $8 billion of capital under management.

USE OF PROCEEDS
SLCA expects to net $42.5 million from its IPO from sale of 2.9 million shares.  The IPO is expected to include 8.8 million shares from selling shareholders

SLCA intends to make an $8.0 million payment to terminate the Advisory Agreement entered into in connection with the Golden Gate (equity sponsor) Acquisition and to provide $34.5 million to fund future capital expenditures for the business, including the construction of a new resin-coating facility.

FINANCIALS

U.S. Silica Holdings SLCA, C+, 6.5

Post PO shares:53mm

Silica mining & processing

Sept 9 mos

Sept 9 mos

Frederick, MD

2008

2009

2010

2010

2011

IPO Mkt

Revenues ($mm)

$234

$192

$245

$185

$212

Cap (mm)

Operating income

$27

$26

$46

$37

$48

$901

Operating income % of rev

11%

13%

19%

20%

23%

@$17

Net income (loss) ($mm)

$17.3

$5.5

$11.4

$7.6

$20.2

Net income (loss) % of revenue

7%

3%

5%

4%

10%

Cash flow from operations

$38.3

$13.9

$36.7

$24.4

$22.4

Cash flow from ops % of rev

16%

7%

15%

13%

11%

Adjusted EBITDA

$50

$50

$72

$56

$66

Adjusted EBITDA % of rev

21%

26%

29%

30%

31%

Contribution margin

$65

$61

$89

$69

$82

. % from Oil & gas proppants

36%

39%

48%

46%

53%

. % Indus & Speclty Prodct

64%

61%

52%

54%

47%

Tons sold
. Oil & gas proppants

954

787

1,522

1,084

1,428

. Indus & Speclty Prodct

5,435

4,302

4,443

3,424

3,260

Average price per ton
. Oil & gas proppants

$40.23

$45.53

$45.70

$47.22

$48.55

. Indus & Speclty Prodct

$35.54

$36.21

$39.48

$39.22

$43.76

Valuation Ratios

IPO Mrkt

Price /

Price /

Price /

Price /

% offered

Annualizing Sept 9 mos

Cap (mm)

Sales

Earnings

BookValue

TangibleBV

in IPO

U.S. Silica Holdings (SLCA)

$901

3.2

33

5.9

15.2

22%

SCORECARD

Mgt

Market

Market Do-

Proprie-

Total

1-5, 5 is high

Growth

mination

tary

rating

20 is perfect

2

1.5

2

1

6.5

 

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